Obama’s tax rules claim first casualty

The Obama administration’s efforts to crack down on offshore tax deals have claimed their first casualty — and tax experts say there will be more where that came from.

Salix, a North Carolina-based pharmaceutical company, announced Friday that it was backing away from a planned merger with the Italian drug maker Cosmo, less than two weeks after the Treasury Department unveiled new rules aimed at making so-called tax inversions less attractive.


The medical device maker Medtronic, meanwhile, stressed Friday that it was going ahead with its purchase of the Irish-based Covidien, one of the pricier deals in the recent influx of inversions. But Medtronic also made clear that the Obama administration’s actions would make its merger tougher to finance.

Tax analysts said Salix’s announcement shows Treasury’s rules are working, and predicted more companies would soon follow suit and scrap merger plans. In announcing the new rules last month, Treasury Secretary Jack LewJacob (Jack) Joseph LewOvernight Finance: US reaches deal with ZTE | Lawmakers look to block it | Trump blasts Macron, Trudeau ahead of G-7 | Mexico files WTO complaint Obama-era Treasury secretary: Tax law will make bipartisan deficit-reduction talks harder GOP Senate report says Obama officials gave Iran access to US financial system MORE said that the department’s actions “will mean that inversions no longer make economic sense” for some companies.

“The question is how many,” said Steve Rosenthal, a former corporate tax lawyer now at the Urban-Brookings Tax Policy Center.

But experts also said that Medtronic’s decision to go forward, even at greater cost, showed that new Treasury rules are not foolproof.

Lew himself has long said that any executive action would be no substitute for legislation curbing inversion, a maneuver in which U.S. companies can generally cut their tax bills by merging with a smaller foreign competitor and reincorporating abroad.

“Treasury said from the start that some inversions would go forward, and some wouldn’t,” Rosenthal said Friday. “Today proved that.” 

Congressional Democrats have had inversion deals in their sights for months, ever since the American drug giant Pfizer tried to take over AstraZeneca, a British competitor. President Obama started increasing the pressure on the deals over the summer, as Democrats tried to incorporate inversions into their election-year messaging. Republicans have shown little interest in targeted anti-inversion legislation, leading the administration to go it alone.

Treasury’s new rules target accounting techniques that multinational corporations can use to access their foreign earnings without paying U.S. taxes. Medtronic had planned to use those earnings as part of the deal to merge with Covidien, as had other companies that have clinched inversion deals in recent years.

Medtronic said Friday that it would use $16 billion in outside funding to finalize the Covidien deal, and that, even with the added costs, there were “compelling” reasons to move forward. 

Omar Ishrak, Medtronic’s chief executive, suggested in a statement that the device maker’s decision to complete the merger showed that the purchase of Covidien was driven by far more than taxes. “This proposed acquisition was conceived and undertaken for strategic reasons,” Ishrak said.

As for Salix, the drug maker’s chief executive, Carolyn Logan, cited the “changed political environment” in announcing the company’s decision to walk away from the deal. Recent developments, Logan added, “created more uncertainty regarding the potential benefits we expected to achieve.” 

Doug Holtz-Eakin of the American Action Forum, a group aligned with Republicans, said no one should be surprised by Salix’s decision. 

But Holtz-Eakin, a former director of the Congressional Budget Office, said there was no reason for Treasury to be proud of their efforts, either. The new rules, he said, are forcing some companies to stay in the U.S., despite the competitive disadvantage caused by the American tax system. 

Salix still might shift its legal address outside the U.S., with Bloomberg reporting the company is in talks to be bought by another pharmaceutical company, Actavis, that already has reincorporated abroad. Plus, Medtronic’s decision proved that companies often have strategic business reasons for deals that Democrats deride as legal tax dodges, Holtz-Eakin said.

“I don’t see why this is an accomplishment,” said Holtz-Eakin, who has said that Treasury would have been better served to do nothing on inversions. “All they’ve done is create more uncompetitiveness.” 

Republicans have said it’s difficult to stop companies from looking offshore without revamping the U.S. tax code. On top of that, Holtz-Eakin said that the Treasury rules — which don’t affect deals completed before Sept. 22 — hurt companies that have already seen their competitors secure their inversions. 

“I think that any deal that had been initiated should have been allowed to proceed,” Holtz-Eakin said. 

Still, others said Friday’s developments showed that gaps in the system remain for companies seeking refuge abroad. 

For instance, Treasury’s rules did not touch “earnings stripping,” a process by which U.S. companies get a tax break off loans from their new foreign parent.

But tackling earnings stripping through executive action could also be more complicated for the administration, experts say. 

Congressional Democrats could take another try at legislation targeting earnings stripping after November’s election, a Senate Democratic aide said. The aide added that Treasury’s rules were working, but had holes that only Congress could fill. 

“Treasury ought to be comforted that it did something meaningful,” Rosenthal said. “My own view is that Treasury has just touched the surf and will need to do more. We’ll see.”